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7/19/04
Some Six Sigma Business by Ross Miller

Today’s news that a certain very venerable company from a cold climate may have gilded the lily in reporting it's sales and earnings elicited the following hilarious from Prof Miller: " Two words: Six Sigma (or Alpha Omega). Slower innovation eventually leads to slower sales growth." [Before flaming me, I acknowledge that this is an oversimplification designed to amuse the easily amused.]

And a comment about corporate culture under JW--bad news was only rarely schmeered over. The quickest way to get fired was to do exactly that. Just ask DW, the forgotten fourth contender to the throne. The rules was that you were allowed one big mistake, but if you papered it over you were gone. Welch understood that he had to hear the bad news fast while he could do something about it. This was a core element of XXX culture while I was there. Jack, despite the diversions of his later years, readily did understand how bureaucracy could cripple a company.

Regardless, Jack knew exactly how to deal with bad news. He had silos to work with--a concept invented by the chair and explained by me in a conversation in front of the rockhopper penguins at the New England Aquarium between a mutual fund manager somewhat like Peter Lynch (who speaks first) and a mathematician somewhat like me (you can guess who GFF and Mike are on your own) from today's installment of "Rigged":

"Mike operates under a much looser set of accounting rules. You might say that he's able to manufacture earnings all with the blessings of the legal and accounting professions, not to mention the government.

Manufacture earnings?

It's one of the privileges that comes with being a multinational conglomerate. GFF buys and sells companies all the time. The Lowell Group may have been GFFs largest acquisition so far this year, but it is only one of maybe fifty.

Fifty? I said. That many? I knew that Ken's number was on the low side.

Most of them are small acquisitions, if you call a few hundred million dollars small. The important thing is not what GFF buys, but what it sells. Unlike the stocks in my mutual fund, most of the businesses that GFF owns aren t traded in an active market. The only way for GFF to know what a business is truly worth is to sell it. Until then, GFF gets to carry it on its books at the price that it paid for the business.

So?

Well, you can think of GFF's businesses as being silos, some with unrealized gains and some with unrealized losses. Any quarter where it appears that GFF is having trouble meeting its earnings targets, it can manufacture what it needs by raiding the appropriate silo. It can sell a winning business to harvest earnings, if you ll allow me to mix a metaphor. If things are going better than expected, it can take the opportunity to sell a losing business.

Are you saying that's how GFF always makes its numbers down to the penny?

That's exactly what I m saying, though it does take careful planning and exquisite timing to pull it off and so exceeds the capabilities of any other company in the world. And it's no coincidence that most sales of GFF businesses are slated to close just before the end of a quarter. Indeed, GFF has had to save some deals from falling through by lending the buyers some of the funds necessary for the purchase.

Let us assume that your theory is correct. Can GFF continue to do this indefinitely?

No, at some point everything--silos and good luck--runs out. It always does. If a problem at a business as large as The Lowell Group generated sufficient losses, GFF could quickly blow through its silos. Then its numbers wouldn t look so good.

Really? I said. But there's nothing illegal with using these silos, as you call them. Is there?

No, there isn't. Not if one does it carefully. That said, it still bothers me a great deal that Mike and the rest of GFF's senior management strenuously deny that they are doing anything to manufacture, manage, or smooth their earnings. That seems more than a little disingenuous to me. And then there's the whole question of its pension fund.